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Fitch Rates Intralot's EUR500 million Bond 'BB-'
October 20, 2017 / 3:32 PM / 2 months ago

Fitch Rates Intralot's EUR500 million Bond 'BB-'

(The following statement was released by the rating agency) LONDON, October 20 (Fitch) Fitch Ratings has assigned Intralot Capital Luxembourg S.A's EUR500 million bond a final senior unsecured rating of 'BB-' with a Recovery Rating of 'RR3'. The bond is rated one notch above Intralot's Long-Term Issuer Default Rating of 'B+'/Stable. The amount of the bond is EUR50 million higher than anticipated by the company at the time when Fitch Ratings assigned it a 'BB-(EXP)' rating last month. Proceeds from the notes, which mature in September 2024, will be used for early redemption of the company's EUR250 million 6% notes due 2021 as well as other outstanding credit facilities. The planned notes are guaranteed by Intralot SA and some material subsidiaries, and will rank pari passu with all existing and future unsecured indebtedness of the issuer that is not subordinated to the notes, including senior credit facilities that are not secured. The new notes marginally enhance Intralot's financial flexibility by extending the average debt maturity profile and reduce interest costs. Intralot's high leverage remains not fully aligned with a 'B+' rating despite improved performance continuing into the first half of 2017, but we expect the company to deleverage from 2018. The rating profile remains well anchored around a business profile commensurate with a 'BB' rating category for the sector. Any evidence of contracts not being renewed or renewed on worse terms, or unexpected cash leakages, combined with growing gross debt, could be negative for the rating. KEY RATING DRIVERS Recurring Contracted Revenue Base: Intralot's credit profile benefits from more than 85% of revenues recurring and contracted up until 2021, with only three contracts up for renewal in 2018. The group has recently secured long-term contract renewals in the US, resulting in securing EUR35 million of EBITDA until 2025 in that market. This amount should increase to about EUR50 million a year if the new Illinois contract is secured. We expect many of the contracts to be renewed due to high switching costs, although we continue to believe these could be on lower margins and may require a higher renewal fee. Margin Affected by Business Mix: The strong growth of Licenced Operations (21.9% in H117) is having a negative impact on group EBITDA margins, which were 12.6% in the first half of 2017 compared to 14% last year. Licenced Operations represented 78% of total group sales in 1H17 compared with 73% in 1H16. This is a significantly less profitable division than Technology and Management Contract Businesses, which has not performed as anticipated this year mainly due to weaker performance in Turkey and some one-off effects in the US. However, this is partly offset by the recent disposal of the Jamaican business for USD40 million, which should have a positive impact on group EBITDA margins. Weak Free Cash Flows: We expect free cash flow (FCF) to be negative in 2017 and 2018, mainly due to one-off investments related to the new Illinois contract and some contract renewal fees. FCF can be volatile as a result of upfront investments related to new contracts of contract renewals. However, this does contribute to steady operating cash flow generation due to its recurring profit stream and is a key credit support. After 2018 the group does not have any major contract renewals until 2021 and therefore capex should remain lower. Capex Driving Higher Leverage: Fitch now expects funds from operations (FFO) adjusted gross leverage to rise to 6.6x in 2017 and 2018, due to the additional EUR50 million of debt. This level of leverage is not commensurate with a 'B+' rating, which indicates low financial headroom. However, we expect continued deleveraging from 2018 through improvements in underlying group operating performance, and application of proceeds from disposals to gross debt reduction. We now expect FFO adjusted net leverage to reach 4.7x in FY18, lower than previously forecast due to capex more evenly spread, reducing subsequently. In addition, our base-case projections do not factor in any proceeds from the expected sale of the group's stake in Gamenet during the IPO process. These options provide additional flexibility for Intralot and if executed successfully could result in significant net debt reduction, bringing net leverage back within our sensitivity guidance for the current rating level. Reputable Gaming Operator, Technology Supplier: Intralot has established itself in the international gaming sector as a reputable provider of, among other products, systems to manage lotteries through software platforms and hardware terminals, and, in betting, a large algorithm-based sportsbook. This has enabled it to win important contracts for the supply of technology and the management of lotteries in the US and Greece and for sports betting in Turkey and Germany. Scope for Growth: The gradual liberalisation of gaming markets, governments' keenness on finding ways to raise tax proceeds and the increasing supply of new games should all provide increasing opportunities for Intralot. The company should be able to leverage on its experience and reputation and benefit from the limited number of reputable suppliers in the industry, allowing it to expand into new countries. Intralot is also well positioned to benefit from opportunities in the US. Limited Links with Greece: Intralot generates less than 10% of its EBITDA in Greece (rated 'B-'). We view Greece's low sovereign rating as neutral for Intralot's ratings due to its contractual requirement to maintain large portions of its cash outside Greek banks. Less than 10% of cash is held in Greece, and following the new transaction, the group will have less reliance on funding from Greek banks due to a higher capital markets allocation. Intralot's wide geographic diversification of its business and lack of meaningful reliance on Greek banks for funding mitigates its exposure to Greece and other countries with a 'b' economic environment. DERIVATION SUMMARY Intralot is positioned well in the 'B' rating category compared to its peers. The main differentiating factor is its visibility of revenue from recurring contracted EBITDA. Intralot has smaller revenue and EBITDA than Ladbrokes Coral (BB/Stable), William Hill, IGT, and Scientific Games. However, it does have good geographic diversification and benefits from the more profitable emerging markets. It also has an established position in the US, and is well placed for potential growth opportunities. Intralot has characteristics that differentiate it from peers at the 'B' rating level, such as the contracted EBITDA and specialist supplier technology expertise. KEY ASSUMPTIONS Fitch's key assumptions within our rating case for the issuer include: - revenue growth of 5%-6% in 2017 as a result of strong growth in licenced betting operations, staying in the mid-single digits thereafter due to a combination of new contracts and some organic growth, albeit partly offset by the disposal of the Jamican stake; - EBITDA margin decreasing to 13% in 2017, remaining at about 15% thereafter; - rental expenses lower as a result of leases associated with expiring contracts; - minority profits fully paid out as dividends totalling EUR39 million in 2017, EUR37 million in 2018; - capex higher in 2017-2018 due to contract renewals and investments in new contracts; - no common dividends. RECOVERY ASSUMPTIONS: In our bespoke going-concern recovery analysis we look at Intralot's 2016 EBITDA of EUR106 million (after deducting attributable EBITDA to minority interests) and this is further discounted to arrive at an estimated post-restructuring EBITDA available to creditors of around EUR86.4 million. We apply a conservative distressed enterprise value /EBITDA multiple of 5.0x to Intralot's wholly owned operations. We also estimate EUR78 million of additional value stemming from minority interests. This is lower than our previous estimate of EUR100 million, following the disposal of the stake in the Jamaican business. In terms of distribution of value, all unsecured debt including the planned new bond would recover 52% in the event of default (assuming the EUR125 million unsecured revolving credit facility will be fully drawn). This is consistent with an 'RR3' Recovery Rating and an instrument rating of 'BB-'. The current Recovery Rating does not tolerate any incremental amount of secured debt nor further asset disposals if the proceeds are not applied to gross debt reduction or reinvested in an asset of comparable value and quality. RATING SENSITIVITIES Future Developments That May, Individually or Collectively, Lead to Positive Rating Action - Revenue growth and steady profitability supported by a stronger return on capital on existing and future contracts with limited capex outlays - FFO adjusted net leverage reducing sustainably below 3.0x (or FFO gross lease-adjusted leverage below 4.0x), with cash deposited predominantly at investment grade-rated counterparties - FFO fixed charge cover above 3.0x, unaided by favourable interest carry - Evidence of sustained positive FCF generation in the low to mid-single digits of sales Future Developments That May, Individually or Collectively, Lead to Negative Rating Action - Evidence that new contracts or renewals are occurring at materially less favourable conditions for Intralot, resulting in continuing weak EBIT margins of under 7%, large upfront concession fees or capex outlays (2016: 8.2%) - FFO adjusted net leverage sustainably above 4.5x (FFO adjusted gross leverage above 5.5x; FY16: 4.3x and 5.6x, respectively) - FFO fixed charge cover below 2.0x (2016: 1.8x) - Material reduction in liquidity without a commensurate reduction in gross debt LIQUIDITY Comfortable Liquidity Following Refinancing: We expect the group's liquidity profile to improve following the recent transaction. There will now only be EUR250 million maturing in 2021, while the new notes will not be repayable until September 2024. We expect the group to have available cash on balance sheet of about EUR258 million at end-2017 and this will be complemented by around EUR125 million in committed unsecured credit facilities. Contact: Principal Analyst Patrick Durcan Analyst +44 20 3530 1298 Supervisory Analyst Sophie Coutaux Senior Director +33 1 44 29 91 32 Fitch France S.A.S 60 Rue de Monceau 75008 Paris Committee Chairperson Pablo Mazzini Senior Director +44 20 3530 1021 Date of Relevant Rating Committee: 16 May 2017 Summary of Financial Statement Adjustments - Regular minority dividends adjustments: We deduct the estimated amount of recurring dividends paid to/dividends received from minorities of EUR41 million (2016) from our calculation of FFO. Leases: Although operating leases are modest, Fitch has adjusted the debt by adding 8x of annual operating lease expense related to long-term assets of EUR64 million (2016). Media Relations: Adrian Simpson, London, Tel: +44 203 530 1010, Email: adrian.simpson@fitchratings.com. Additional information is available on www.fitchratings.com. For regulatory purposes in various jurisdictions, the supervisory analyst named above is deemed to be the primary analyst for this issuer; the principal analyst is deemed to be the secondary. 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